Gravley v. Commissioner

JAS. J. GRAVLEY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. Gravley v. Commissioner Docket No. 100445. United States Board of Tax Appeals 44 B.T.A. 722; 1941 BTA LEXIS 1281; June 17, 1941, Promulgated *1281 1. The petitioner, from 1927 to 1936, inclusive, withdrew funds from the corporation in which he held stock in excess of his salary and other credits. His account on the books of the corporation was treated as an account receivable. On December 31, 1936, the corporation was dissolved and all its assets, including petitioner's account, and liabilities were transferred to a partnership consisting of petitioner and his wife. Held, that the excess withdrawals constituted a liquidating dividend. 2. Upon the evidence, held, that the amount of liquidating profit determined by the respondent should be reduced by the amount of interest paid by the partnership in 1937 on taxes of the corporation, but not by a claimed liquidating loss in the absence of evidence that such a loss was actually sustained. Robert T. Jacob, Esq., and Ashley Greene, Esq., for the petitioner. John H. Pigg, Esq., for the respondent. ARNOLD *723 The Commissioner determined a deficiency in the income tax liability of the petitioner in the amount of $16,077.91 for the year 1936. The determination of the respondent is assailed on the grounds that he erred in treating*1282 excess withdrawals from 1927 to 1936, inclusive, by petitioner of the funds of the corporation in which he held stock as ordinary dividends received in 1936 and in failing to take into consideration, in computing the profit realized by petitioner on the liquidation of the corporation in 1936, certain taxes and interest thereon paid in 1937 and a "Liquidating loss" in the aggregate amount of $1,274.45. The respondent alleged that the excess withdrawals were $66,807.79 instead of $63,279.33, as originally determined, and made claim for an increased deficiency in the amount of $17,706.11. He also alleged that the petitioner was estopped to deny that the amount of his excess withdrawals constituted income taxable to him for the year 1936. FINDINGS OF FACT. The petitioner in 1936 and for many years prior thereto resided in Portland, Oregon. During 1927 to 1936, inclusive, except from about December 24 to December 31, 1936, he was the sole stockholder of the Alemite Co. of the Northwest, except as to two qualifying shares. On or about December 24, 1936, the petitioner made a gift of 100 shares of his stock of the Alemite Co. to his wife, Virginia M. Gravley. The Alemite Co. *1283 was organized in 1919 under the laws of Oregon. On or about December 15, 1926, the authorized capital stock of the company, consisting of 50 shares of the par value of $100 each, was increased to 1,000 shares of the par value of $100 each. On December 28, 1926, a stock dividend amounting to $26,275.19 was declared. On February 14, 1928, a stock dividend amounting to $9,720 was declared. Subsequent to that date the outstanding capital stock of the company was 637.2 shares of the par value of $63,720. On December 31, 1936, the petitioner owned 537.2 shares and his wife owned 100 shares of the stock. The amount of each of the stock dividends was charged against undivided profits or surpluses. No other dividends were declared or paid by the company during 1926 to 1936, inclusive. During all the years 1927 to 1936, inclusive, and for many years prior thereto, there was carried on the books of account of the Alemite Co. an open account in the name of petitioner. The following schedule shows the aggregate amount debited to such account each year, the aggregate amount credited therein each year, the amount of salary included in the credits, and the debit or credit balance at December*1284 31 of each year: Balance Dec. 31 Year Debits Credits Salary included in credits Debit Credit [1927] $20,320.30 $18,730.64 $15,000 $1,589.66 [1928] 36,365.10 16,199.90 15,600 20,165.20 [1929] 93,823.47 78,680.73 15,600 15,142.74 [1930] 45,486.47 30,647.63 15,600 14,838.84 [1931] 14,464.14 16,932.00 12,000 $2,467.86 [1932] 12,662.70 9,183.66 8,000 3,479.04 [1933] 10,470.35 11,530.95 6,000 1,060.60 [1934] 10,165.18 6,116.65 6,000 4,048.53 [1935] 11,677.16 6,000.00 6,000 5,677.16 [1936] 14,466.62 12,600.00 9,600 1,866.62 Total 66,807.79 3,528.46 *724 On December 31, 1936, the debit balance in petitioner's account was $63,279.33. The amounts so withdrawn from the funds of the Alemite Co. were withdrawn for the personal use of the petitioner. At all times during 1927 to 1936, inclusive, the debit balance in petitioner's account was carried on the books and on the financial statements of the company as an account receivable due and owing to the company by the petitioner. The petitioner never gave any notes covering any withdrawals from the funds of the company and no interest was ever charged*1285 against petitioner or paid by him thereon. In each of his income tax returns for 1927 to 1936, inclusive, the petitioner reported as income his salary from the company in the amounts above set forth and credited to his account, but he did not report as income the excess of debits over credits in his account, exclusive of debits avd credits representing salary. The Alemite Co. was dissolved on December 31, 1936, and its business and assets were transferred to a partnership consisting of petitioner and his wife, which partnership agreed to assume and pay all of the liabilities of the company. As of December 31, 1936, appropriate closing journal entries were made on the books of account of the company to reflect the transfer of the company's assets, including the account of petitioner as an account receivable in the amount of $63,279.33 and liabilities to the partnership under the assumed name of Alemite Co. of the Northwest. As of January 1, 1937, entries were made on the books of account of the partnership reflecting the acquisition of the assets and assumption of the liabilities of the corporation. The debit balance of $63,279.33 in petitioner's account in the books of account*1286 of the corporation was entered on the books of the partnership as an account receivable in that amount. At the end of 1937 the debit balance in petitioner's account on the partnership books was approximately $75,000, at the end of 1938 approximately $84,000, and at the end of 1939, $93,647, at which time it was closed by transfer to the "investment account." *725 During 1927 to 1936, inclusive, the corporation had more than sufficient surplus available for dividends to cover the excess withdrawals made by the petitioner. The surplus available for dividends as of December 31, 1936, amounted to $87,143.80, consisting of the two stock dividends of $26,275.19 and $9,720 and "Undivided Profits" of $51,148.61, as determined by the respondent. The undistributed profits or surplus of the corporation shown by its books as reported in its 1936 income tax return was $53,605.85. Upon an examination by an internal revenue agent of the books of the corporation with respect to its returns for 1935 and 1936, various adjustments were made by the agent which resulted in the reduction of the book surplus of $53,605.85 to $51,148.61. Among the adjustments reducing surplus was an item designated*1287 "(c)" as follows: Income tax in original 1936 return $1,422.62 Proposed additional income tax for 1936 $89.89 Proposed additional income tax for 1935 86.82 Proposed additional income tax for 1934 94.19 Proposed additional excess profits tax for 1935 27.29 298.19 Total $1,720.81 In his 1936 return the petitioner reported a gain on the liquidation of the company as follows: Amount received $85,330.11 Cost 31,529.87 Gain 63,800.24 30 percent taxable 19,140.07 A revenue agent made an examination prior to July 1938 and in his report recommended that the gain be computed as follows: Capital stock $ 63,720.00 Surplus 51,148.61 Total 114,868.61 Less amount withdrawn in 1936 by J. J. Gravley taxable as dividend 3,366.62 Net value of assets received in liquidation 111,501.99 Net value allocable to 537.2 shares 94,003.25 Less cost 31,529.87 Gain 62,473.38 30 percent taxable 18,742.01 On August 20, 1938, the petitioner filed a protest and also a claim for refund (Form 843) claiming that the proposed assessment of $678.59 as recommended in the revenue agent's report above referred *726 to*1288 was erroneous and that he had overpaid his income tax for 1936 in the amount of $2,397.91. The respondent in determining the deficiency involved herein treated the debit balance in petitioner's account as of December 31, 1936, in the amount of $63,279.33 as ordinary dividends received by petitioner in 1936 and computed the gain realized by petitioner upon the liquidation of the corporation as follows: Capital stock $63,720.00 Surplus 51,148.61 Total value $114,868.61 Less amounts treated as dividends 63,279.33 Amount received in liquidation 51,589.28 Amount allocable to 537.2 shares 43,493.03 Cost 31,529.84 Gain $11,963.19 30 percent taxable $3,588.97 The petitioner's returns for 1929, 1933, 1935, and 1936 and the corporation's returns for 1927 to 1930, inclusive, and 1934 to 1936, inclusive, were checked by internal revenue agents. The petitioner kept no books of account in respect to his personal affairs. The partnership paid, with its check dated May 4, 1937, in the amount of $100.67 and with its check dated August 30, 1937, in the amount of $216.46, deficiencies in income and excess profits taxes determined by the respondent against the*1289 corporation, together with interest thereon, as follows: Year Taxes Interest [1934] $94.19 $6.48 [1935] 114.11 9.99 [1936] 89.89 2.47 Total 298.19 18.94 The partnership also paid, with its check dated October 12, 1937, in the amount of $407.17, deficiencies in income tax for the years 1934, 1935, and 1936, together with interest thereon, determined by respondent against the Jas. J. Gravley Co., a corporation, the stock of which was originally owned by petitioner and turned over by him in 1928 to his wife. As of December 31, 1936, an entry was made in the journal of the corporation following the entry reflecting the transfer of the assets and liabilities of the corporation to the partnership charging "Undivided Profits" with a "Lequidation Loss" in the amount of $550.15. *727 OPINION. ARNOLD: The respondent in computing the deficiency involved herein treated the amount of $63,279.33 representing the total amount of excess withdrawals by petitioner from the funds of the corporation during the years 1927 to 1936, inclusive, as an ordinary dividend received in 1936. This is predicated on the theory that the excess withdrawals were loans on*1290 an indebtedness owing by petitioner to the corporation and that in 1936 by the action of the corporation the petitioner was released from his obligation to repay such excess withdrawals. The petitioner contends that the excess withdrawals constituted dividends taxable in the year received. Whether the withdrawals were loans or dividends is a question of fact. That no interest was charged or paid and no notes executed and delivered to the corporation by the petitioner do not conclusively establish that such withdrawals were dividends in the years received and not loans. ; affd., ; certiorari denied, . The petitioner testified that he had no intention of repaying the withdrawals. The "Board is no more bound than is a jury to believe the statements of the most interested witness, even though there be no direct or affirmative evidence to the contrary." . Herein we have evidence to the contrary. The evidence shows that the petitioner controlled the corporation, that his account on the books of the corporation, as*1291 was well known to him, was treated by the corporation as an account receivable and an asset on its books of account, its balance sheets, and income tax returns during all the years 1927 to 1936, inclusive, and also in the transfer of the assets and liabilities of the corporation to the partnership, and that he never reported the excess withdrawals in his income tax returns as dividends in the year charged to his account. With respect to the occasion of his withdrawals, the petitioner also testified that "whatever my personal expenses were, or whatever I was investing in, I just borrowed money from the company and it was debited to my account the same as my salary was credited to my account." The account of petitioner shows that the total credits in many years were substantially in excess of his salary. In 1929 the total credits amounted to $78,680.73, of which only $15,600 represented salary. In that year his withdrawals of about $78,000, exclusive of salary, were offset by credits, exclusive of salary, of about $63,000, of which approximately $57,000 apparently represented cash credits. The account of petitioner shows substantial cash credits in other years during the period involved. *1292 The petitioner did, therefore, repay some of his withdrawals. The respondent determined that the excess withdrawals constituted loans. The evidence supports that determination. In the *728 light of such evidence the testimony of the petitioner is not very convincing. We, therefore, conclude that the excess withdrawals in the amount of $63,279.33, represented loans and not dividends in the years received. This conclusion eliminates the question of estoppel raised by respondent. The respondent affirmatively alleged in his amended answer that the amount of excess withdrawals was $66,807.79 instead of $63,279.33. It is true that the excess withdrawals of all the years 1927 to 1936, excepting 1931 and 1933, aggregated $66,807.79. However, in 1931 and 1933 there were credit balances of $2,467.86 and $1,060.60. The respondent has failed to adduce any evidence showing that petitioner is not entitled to such credits against his withdrawals. The burden of proof in this respect rested upon respondent. The amount of the excess withdrawals as of December 31, 1936, is $63,279.33. The next question to consider is whether the excess withdrawals represented ordinary dividends*1293 in the taxable year, as determined by the respondent, or liquidating dividends, as contended by the petitioner. It is well settled that forgiveness or cancellation by a corporation of the debt owing to it by a stockholder, the corporation having sufficient surplus and the debtor being solvent, constitutes a distribution of a taxable dividend to the stockholder. ; ; . In the Allen and Miller cases the withdrawals were charged off against surplus. In the Wiese case the withdrawals were set up in a new account, entitled "Withdrawals of Profits not Formally Authorized in the Minutes of the Company," and the Board held that this account was in effect merely a subdivision of the surplus account and that the true surplus could not be determined except by transferring the debit balance of that account into the surplus account. Herein the excess withdrawals were not written off the books by a charge to surplus, but the petitioner's account was transferred as an account receivable from the corporation to the partnership*1294 as a part of the complete liquidation of the corporation. The petitioner's account was treated as an asset and disposed of by the corporation with and as a part of its assets. Since the evidence fails to show that the corporation forgave or canceled the indebtedness and since the evidence shows that petitioner's account was transferred to the partnership as an asset in the course of liquidation, it is our conclusion that it represented a liquidating dividend. ; see . The amount of $63,279.33 should, therefore, be added to the liquidating profits as determined by respondent. The petitioner contends that the value of his account in 1936 was only $5,936.39, representing the value of assets owned by him other *729 than his stock in the Alemite Co. We see no reason why that stock should be disregarded in determining the value of his account with the corporation. A similar contention was made in , and therein rejected. Furthermore, the partnership, in taking over the account, entered it on their books at its full amount of $63,279.33, and petitioner's*1295 interest in the corporation was reflected in the partnership assets. In our opinion the evidence does not warrant a finding that the value of the account was less than $63,279.33. The petitioner concedes that the amount of $407.17 paid by the partnership for additional income taxes of the Jas. J. Gravley Co. is not an item to be considered in computing the profits realized by him upon the liquidation of the Alemite Co. It appears from the evidence that in determining the value of $114,868.61 of the assets of the corporation as of December 31, 1936, the respondent allowed the additional income and excess profits taxes for 1934, 1935, and 1936 in the aggregate amount of $298.19 as a deduction, thus reducing the net worth as shown by the books of the corporation. The respondent did not allow the amount of $18.94 paid for interest on such taxes. It is conceded by respondent that the amount of $298.19, being the additional tax liability of the corporation as of December 31, 1936, represented a proper accrual on the books of the corporation, but not the interest except that portion of the interest attributed to the 1934 and 1935 deficiences up to December 31, 1936, since the interest*1296 on such taxes after December 31, 1936, and the interest on the 1936 deficiency had not accrued as at December 31, 1936. However, we are not here determining the net income of the corporation for 1936, but the amount received by the petitioner and his wife on liquidation. The amount received by them was reduced by the amount of the interest paid and the amount received should therefore be reduced by the interest paid in the amount of $18.94. As to the claimed loss of $550.15, we are unable from the evidence to determine the nature of this loss. The accountant of the partnership testified that "in closing the books of the corporation, the final analysis shows a liquidation loss in that amount which had to be deducted from undivided profits * * * and it was necessary, then, to make that additional entry to completely close the books." It was stated by counsel for petitioner that he believed that the amount represented "an additional loss which resulted from some real estate adjustments" made on the books of the corporation. From the evidence this may have been nothing but a book adjustment. A taxpayer "seeking a deduction must be able to point to an applicable statute and show*1297 that he comes within its terms" . From the evidence we are unable *730 to determine the nature of the loss, if any. It may not therefore be considered in determining the profit realized by petitioner on liquidation of the corporation. Decision will be entered under Rule 50.